Tony Oz : My definition of a good active trader (over 20 round trip trades a month) is someone who is profitable and has earnings to commission ratio greater than 5. But that's my definition. Why? Because I know of 2-Mil-a-year traders who blew out in their first down year because their ratio was less than one to one! ... There are only a few that achieve longevity in this business with one to one ratio. There are plenty who achieve it with ratios greater than 5. Hitman : This I can not agree with, at least based on what I have seen at my firm. I personally believe traders with a profit to commission ratio of 1 to 1 (what I did last year) is typically playing it safer than those going for 5 to 1 because you sacrifice a lot of commissions with churning which is part of the defense. It generally leans toward a more scalping oriented game, and in general, smaller up days and smaller down days. People who go for bigger moves (required for higher p/c ratio) need to have wider stops and tend to have bigger swings, and higher volatility in their account. Tony Oz : No No No. The one with the 5 to 1 is simply more selective than the one with one to one! That is what I was referring to... Here is another question for you? If you end up losing $10,000 this year before commissions and you generate the same commissions you did last year, will you survive? Think about it, your loss is only 1/15 of your previous year's gross profits, yet you would blow out. As part of my continuing effort to create a mind-set that is consistent with the underlying principles of a probabilistic environment (a la Douglas), I decided to entertain myself with the possible implications of the aforementioned interchange (taken from DaytraderDave's Trading Journal thread). Consider the 1:1 trader. Let p be the probability of a successful trade, which we shall assume remains constant. For simplicity's sake, we shall assume that a trade has only 2 outcomes, a gross profit of 25 cents per share or a gross loss of 25 cents per share. Assume also that R, the risk per trade, is a fixed proportion (say 0.5%) of E, our equity. Let N be the number of shares per trade (computed as R/0.25) and C be the commission rate per share including passthrus. For total commissions to equal total net profits, the following equation must hold true : R*(2*p-1) - 2*N*C = 2*N*C => R*(2*p-1) = 4*N*C => R*(2*p-1) = 16*R*C => p = (16*C+1)/2 So for example, if E=40000, R=200, N=800, C=0.01, we compute p=0.58. Note that p is independent of N. On the assumption our trader does 12 trades per day, I ran some Monte Carlo simulations for a trading year, the results of which can be seen in Table 1 of the attachment. We observe that as long as our trader maintains his edge and discipline, he is in no danger of blowing out his account. The main threat to a trader of this type is the extreme sensitivity of equity vis-a-vis p (probability of a successful trade). A "mere" drop from 0.58 to 0.54 changes him from a $86,000 per year trader to a breakeven or losing trader, while a change from 0.58 to 0.62 increases his annual profit more than fourfold ($355,000). Let's have a look at another trader - one who has a longer time horizon (intraday and swing), who puts on an average of, say, 2 trades per day, is looking for a gross profit or loss of 50 cents, risks 1% of his equity per trade and has a commission rate of 0.015 per share - perhaps the 5:1 trader referred to by Tony Oz. The results for varying p can be seen in Table 2 of the attachment. Notwithstanding the fact that we are comparing different trading styles and parameters, if we consider p as a form of skill level, then it can be seen that both traders have similar breakeven levels (0.53 vs. 0.54). Our 5:1 trader, however, needs higher skill levels to reach $86,400 (0.65 vs. 0.58) and $356,000 (0.77 vs. 0.62) than our 1:1 trader. Once both have reached comfortable earnings levels, it would seem that the 5:1 trader can better withstand a bad spell (small drop in p, due to internal or external factors, for an extended period) than the 1:1 trader, which may be why Tony Oz prefers the former's longevity. Disclaimers (1) No claim or assertion is intended regarding skill levels of different trading styles or personalities. (2) The simulations are crude, based on very simplistic modelling and the results should be used for entertainment purposes only. (3) The attachment was necessary as it is next to impossible aligning the figures in table form in the body of a post.
"----->>>>>who puts on an average of, say, 2 trades per day, is looking for a gross profit or loss of 50 cents, risks 1% of his equity per trade and has a commission rate of 0.015 per share" Hmmm... interesting very interesting, but please refer to page 231 in the book the Stock Trader to see what my "bell curve" looks like In other words, I look at performance in a different way than "if I make or lose on average 0.50, what percentage of the time do I need to be right?" Read the quote again, "The one with the 5 to 1 is simply more selective than the one with one to one!" Proof I: I made a lot more money than Hitman last year and I paid less in commissions Proof II: The book the Stock Trader. Study the commissions to profit ratio there and I was paying relative high commissions there (average over 0.03 a share) I pay much less when trading my normal sizes. Yet, it was still way over 5 to 1! I suggest you carefully read chapter 26 of my book and see how I measure performance. Cheers, Tony
tom_p, This ranks as one of the best posts, if not the best post, I have seen on ET. I have to give what you said some thought, run my own Monte Carlo simulation for my own edification... Thanks for getting me started thinking along these lines...And congratulations on a fine contribution. nitro
tom_p: First what you did realy helps me to understand the math part of the game. In essence, the edge for breakeven trading only needs to cover the cost. I can't seem to arrive to your breakeven eq. though. Given your assumption, let r be gross profit (therefore gross loss) per share. I get this: r*p - r*(1-p) = 2*c, plug r = 1/4 then 2*p - 1 = 8*c therefore we have p = (8*c+1)/2 = 0.54 (c=0.01) add some pass through p ~ 0.55
tom_p, Very good post... I enjoyed reading it very much... BUT I think you may have made a pretty dangerous assumption... With Hitmans scalp style his Avg. win / Avg. loss seems to be 1 to 1 maybe 1 1/2 to 1, but with Tonys style (and my style) our avg. wins are much higher than our avg. loss... Therefore when you say that trader 2 has to produce a higher win % to match trader 1's net profit, that would only hold true if trader 2 were taking Rgains of 1... which I know Tony isn't... PEACE and good trading, Commisso
And one more thing, why is the commission rate for trader II higher than trader I by 50%? Isn't it possible that trader II pays less than trader I per trade? Flip those numbers around and see what you get And isn't it possible that trader 1 will bat 490 and pay 100K in commission that year and end up out of the game. I don't see how that probability does not come up? I mean being 49% right and losing money is possible. Flaws in probabilities calculations You say: "For total commissions to equal total net profits, the following equation must hold true : ...." The flaw of your calculation is that it computes profit to commissions ratio rather than profit to shares traded per year minus commissions. Then use percentage of time being right say 49% or 48% yet trading millions of shares a year ... see where I'm going with this? Then calculate the probability for a trader who loses on gross and generates 100K in commissions to blow out. Remeber my post had to do with how I define a good active trader. "My definition of a good active trader (over 20 round trip trades a month) is someone who is profitable and has earnings to commission ratio greater than 5"
Tony: ***Proof I: I made a lot more money than Hitman last year and I paid less in commissions*** I don't think this was the case at equivalent experience level (a better comparison would be someone who has been trading Tony style for a year versus me). It is quite unfair to compare a first year player versus a 15 years veteran who has seen it all. If I manage to survive in this game for 15 years we will definitely see about that. ***Proof II: The book the Stock Trader. Study the commissions to profit ratio there and I was paying relative high commissions there (average over 0.03 a share) I pay much less when trading my normal sizes. Yet, it was still way over 5 to 1!*** Very unfair comparison, as at the date of that book was written, it was arguably one of the top two trading years ever. While you can never say what will happen if you were there, I think most on this board would not bet against me having better stats (not P&L) given the same opportunities. Keep in mind that with right set-ups you don't need to risk more than 10 cents to get into a set-up that yields a quarter point. Also keep in mind that it is easier to control your loss than letting your winner run, hence it is easier to get out of a stock for minimum damage than getting a winner that is 3 times larger than your stop. The way you trade is unquestionably the ultimate level in trading as you become more selective with shot attempts and use high powered, highly concentrated shots. It requires supreme level of confidence and I simply don't agree with you that it is the best way for a ***NEW*** trader to get started. I mean, you traded NYSE before, you even scratched and clawed the way I did before, why don't you realize that those inefficient trading styles eventually paved the way for you to become who you are, to play the game the way it is meant to be played. Had you jumped into your current trading style when you were new you would have probably never got this far. I firmly believe a new trader should take a lot of shots and don't even be afraid of overtrading as long as some basic discipline is in place, the more trades they take, the quicker they learn the actual execution of the trades and develop that instinct nothing else can teach. If you are a newbie the worst thing you can do is to take just one or two trades a day and think you got something going, it will take a very long time for you to figure out that your method is actually broken. Someone who takes 20 trades a day will see it immediately, and at 100 shares (standard newbie size) it won't be very damaging and he will quickly see what's wrong and start moving toward the right direction. A lot of trading is "once you take enough hits you will know how not to take them". As long as your discipline is in place, that you are not putting up miracle shots and are controlling your losses, keep shooting, that's the quickest way to learn. If you take a pool of 100 brand new traders that take 20 trades a day trying to get quarter's and halve's versus a pool of 100 brand new traders that take 2 trades a day trying to get a point or two, I am very willing to bet that assuming both group were educated by decent traders (if I am the trainer for one and Tony is the coach for other this won't be a fair comparison wouldn't it be, and of course no coat tail riding like everyone hopping on the Tony Oz express calls to profitability), the group that take 20 trades a day will produce more profitable traders. Last but not least I will post the curve for my 2001 P&L below to illustrate the consistency of "spray and pray", it really does minimize volatilty on your account which is vital when it is your only source of income. Come on Tony, you went through what I am going through, and I really really doubt you traded your current strategies until you had substantial pressure off your back financially, right now I am not in that boat and I can not afford to take heavy bets. A lot of what you are telling me is like an eagle in the sky watching two wolves clawing and scatching each other into bloody pulps, and the eagle wonders why can't the wounded wolf just fly away or what hell, dive down at its victim with incredible speed. Guess what, I got no wings, and eventually my arms will hopefully evolve into wings, until then I got a tooth for a tooth and an eye for an eye.
I'm definetely getting interested in this area. It seems to me that step one should be a positive average trade over the course of all trades(after commissions), like the "positive expectancy" that Van Tharp talks about in his book. Without that why would you waste your time trading! Now, it seems to me that if you can trade a system that has a higher expectancy but less trades, than the scalper/daytrader who generates alot more trades but a lower average trade(expectancy), and generate the same profits i'd take the sytem with less trades for my sanity. Of course, finding a system that you can consistantly over the long term generate a positive expectancy(average trade) is only the tip of the ice burg. For every trader there is probably a different style/system and each traders way of getting that positive average trade is a matter of styles and preferences. I think that the money management(bet size) is overlooked a lot of times, please don't overlook this. I found the following article very interesting from the omega-list: http://www.purebytes.com/archives/omega/2001/msg05297.html
After a horrendous start all I can say is I hope my 2002 will look like this. http://hitmantb.tripod.com/2001.htm
Hitman, I think you really missed my point. It wasn't a comparison or "how should a new trader trade." It was about taking your trading to the next level. And then I gave you my definition of a "good" trader on that thread. I never said or hinted that new traders are to be expected to trade this way or should know to trade this way from day I. What I was trying to do is show you (everyone) how being more selective is the only way to take your trading to the next level. I never said that I ALWAYS knew this secret. I PAID to learn this as you know and I never said that I didn't. Now go and kick some ass tomorrow and screw what your team is making. Concentrate on number one!